Banking reform and industry structure: Evidence from China

Abstract The development of a country's financial sector plays an important role in shaping its industrial structure; however, evidence on the micro level channels through which this relationship appears remains relatively sparse, particularly for developing countries. We examine the banking sector's role in the industrial structure in China by exploiting a quasi-experimental shock from a banking sector reform in 2002 that entailed stricter capital and asset requirements. Based on longitudinal data on manufacturing firms and registered banks from 1998 to 2008, we find that banking reform reduced concentrations in the product market by encouraging the growth of smaller and younger firms. These effects were most pronounced in regions with lower levels of financial development prior to the reform. Our results are robust after considering alternative model specifications and measures of dependence on external financing.